Gap Premium Pricing in Leveraged Exchange Traded Notes

University essay from KTH/Matematisk statistik; KTH/Matematisk statistik

Author: Axel Broström; Richard Krstiansson; [2016]

Keywords: ;


Exchange traded notes have recently seen a surge in popularity. Investors are pouring cash into these debt securities that track various underlying assets. Riskier leveraged exchange traded notes replicate the daily return of the underlying asset multiplied by a lever. Investors pay various fees for holding these securities, many of which are obscure and hidden. The study has researched what hedging fees an underwriter should charge investors. The study has produced two models for pricing these hedging fees: one using insurance pricing based on historical losses and another using arbitrage pricing based on the Black- Scholes model. The models have been used to price leveraged exchange traded notes with a lever of 15 tracking the OMXS30 as the underlying asset, showing that all underwriters but one are within a reasonable price range. A discussion concerning investors risk taking from a behavioral finance perspective and its connection to leveraged exchange traded notes is also included.

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